Wealth of Nations April 2007

Mistaking a Miracle for a Crisis

We are witnessing a transformation of the world economy. The implications of the upheaval are not widely appreciated or understood.

Suppose that America's labor force suddenly quadrupled. Imagine what that would do to unemployment. How would it be possible to find jobs for all of those people? Think of what it would mean for wages. How would we cope?

We are living through a transformation of just that sort in the world economy. Thanks to the opening of China, India, and Eastern Europe, and to breakthroughs in the technology of international trade, computing, and telecommunications, the internationally engaged global labor force has expanded fourfold since 1980—and most of that increase has happened, in fact, in just the past 15 years. We are in the midst of a great revolution in the way that people interact with one another, as producers and consumers, all around the planet.

To say this, of course, is commonplace: I am not claiming that the phenomenon has been ignored. On the contrary, the debate over how to manage this upheaval has become a driver of national politics in the United States. Despite their familiarity, however, the main facts about globalization, and their full implications, are not well understood. You could sum it up this way: The significance of this transformation is at the same time greatly overrated and greatly underrated.

In the United States, as in every other advanced economy, voters and politicians are preoccupied with the national aspects. Are imports driving down our wages and putting Americans out of work? How far might offshoring of manufacturing and services go?

What will that mean for us? But globalization is, self-evidently, an international event. What happens in any single country is just one highly connected aspect of what is happening somewhere else. What is happening (or thought to be happening) in individual countries has to add up to the big picture, taking the world as a whole, or else one has failed to grasp what is going on.

And when you look at the global context and try to do this adding up, the results are jarring. The global transition really is an awesome shift in economic realities—colossal in scale and bewilderingly fast. Yet, seen in this light, the experiences of individual advanced economies, including that of the United States, seem quite muted. When you contemplate the pace and scale of the global transformation, it seems remarkable that economic life in America and Europe has not been much more dramatically recast.

The surprising thing is that the rich West is coping so easily and so well. America and other wealthy countries have plainly gained in the aggregate from what is going on—and the United States, in fact, has gained more than most. There are political strains, to be sure, but you could not call them unmanageable. Economic issues will be important in the elections of 2008, as they always are, but (so far as one can judge right now) not paramount. That such an enormous and sudden global upheaval can produce, country by country, such comparatively mild and, on the whole, beneficial results surely comes as a bit of a shock.

To get a better sense of both sides of this—the amazing drama of the global transformation and the comparative ease (automatic and unplanned, for the most part) with which the advanced economies have adapted to it—I have some reading to recommend. Don't be put off by the source. Twice a year the International Monetary Fund releases its World Economic Outlook. Because it includes some authoritative global economic forecasts, this is always essential reading for professional and amateur economists, but the newest edition, just out, contains a special chapter (www.imf.org/external/pubs/ft/weo/2007/01/pdf/c5.pdf) that deserves a much wider readership, especially among politicians and the people who work with them. This chapter, "The Globalization of Labor," weighs the implications of the new global economy for workers worldwide. It asks what exactly is going on, which groups are gaining or losing, and what governments might do to protect the victims. The study's global perspective is unusual and especially valuable, for the reason I just mentioned: It forces you to compare the pattern of change in the world as a whole with the effects that Americans are seeing at home.

A good way to gauge the scale of events from a high altitude is to think of globalization—shorthand for the opening up and interconnecting of local and national markets—as an increase in the worldwide supply of labor. The IMF's economists estimate it by weighting each country's labor supply based on the ratio of its exports to its gross domestic product. (So, for instance, if a country had no exports, it would be regarded as contributing nothing to the global labor supply; if its exports accounted for all of its GDP, then all of its workers would be deemed part of the global labor force.) By this measure, the global labor force grew fourfold—fourfold!—between 1980 and 2005, with a marked acceleration after 1990. How? The number of working-age people around the world grew, but that was not the main cause: That rise was only a little more than 50 percent. Most of the increase reflects the surge in exports—in international trade generally—that served to draw vast numbers of new workers into the global labor pool.

For workers in poor countries, this has been unambiguously good news. The IMF's numbers show that manufacturing wages in poor nations are rising—and quickly enough, overall, to shrink the gap with manufacturing wages in the United States. For the developing world's earliest industrializers, the gap has all but disappeared. In 1970, the average manufacturing wage in South Korea was less than 10 percent of the average manufacturing wage in America; by the turn of the century it was 70 percent. Wages in China, India, and other developing countries have so far converged with rich-world wages much more slowly than that—but the gap is closing nonetheless, and in most cases at an accelerating rate. Be clear about one thing: If you are interested in helping the world's poorest, globalization is the best possible news.

But what about workers in America and other rich countries? Given this huge expansion in the global labor force, you might expect a collapse in wages in America and Europe. Well, that has not happened. True, labor's share of national income has fallen in the United States and in other rich countries. In industries using mostly unskilled workers, labor's share of income has fallen significantly; in industries using mostly skilled labor, its share has tended to rise. But, thanks to trade, which has made prices lower than they otherwise would be, pay in real terms has kept on rising regardless—albeit more slowly in some places than in others. In America, real compensation per worker has risen by about 20 percent since 1980. In Europe, it has risen by more than 30 percent. (Note, though, that America has added new jobs at roughly twice Europe's rate—hence its consistently lower unemployment rate.)

Yes, growth in American wages and benefits was lower at that rate than the country had grown accustomed to. But see this in the global context: Despite the staggering increase in the effective global labor supply during the past two and a half decades—a phenomenon that is off all the charts and that, to repeat, heralds unprecedented inroads against global poverty—wages and benefits in the United States managed to keep on rising. This seems little short of miraculous.

How was it possible? Aside from the effect of trade on prices, the most important cause is the simplest, and yet the most frequently ignored. In their trade with other countries, developing nations do not confine themselves to selling goods and services; they also buy them. As they get richer, they import more, and that helps buoy incomes in the advanced economies. The IMF's figures show that since 1980, poor countries have increased their imports much faster than the advanced economies have increased theirs. And the share of industrial-country exports going to developing countries (rather than to other industrial countries) has been rising. Trade is a win-win proposition because, in the aggregate, it is a two-way process. Even so, it is remarkably good news that so much new labor has been absorbed so quickly into the global market system—and all, up to now, with so little disruption; indeed, it is happening alongside a continuing (albeit slow) rise in advanced-economy living standards.

None of this is to argue against measures that would help cushion the blow for those suffering the consequences of expanded international trade or technological change, or for others left behind. But it surely argues for shifting the focus of attention toward directly supporting the incomes of the low-paid, improving their skills, and providing better insurance against economic insecurity—and away from the generalized aversion to trade and globalization that continues to bubble up.

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